Just how will interest rates be raised?

While guessing when the FED will begin raising short-term interest rates is a fun parlor game, a more technical but almost as important question is just how the FED will accomplish this goal. This question was raised in a recent article in the New York Times.

Raising interest rates is not as easy or mechanical as it once was. It seems to me that credit unions would be well advised to understand precisely how the FED plans to raise interest rates under these somewhat unprecedented circumstances.

Why are these conditions unprecedented? Because, since 2008, Congress has given the Federal Reserve the authority to pay interest to financial institutions holding excess reserves in Federal Reserve Banks. Regardless of whether or not you think this was a good move, the result has been that the Federal Reserve is now sitting on more than a $1 trillion in bank reserves. This huge amount of reserve held by the FED greatly complicates the mechanisms it will have to use when it finally decides it is time to raise interest rates.

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